Federal bank regulators issued guidelines allowing banks to keep loans on their books as "performing" even if the value of the underlying properties have fallen below the loan amount.

The guidelines, released on Friday by agencies including the Federal Deposit Insurance Corp., the Federal Reserve and the Office of the Comptroller of the Currency, provide guidance for bank examiners and financial institutions working with commercial property owners who are "experiencing diminished operating cash flows, depreciated collateral values, or prolonged delays in selling or renting commercial properties." Restructurings are often in the best interest of both lenders and borrowers, the guidelines point out.

The new guidelines are targeted primarily at the hundreds of billions of dollars worth of loans that are coming due that can't be refinanced largely because the value of the properties have fallen below the loan amount. In many of these situations, the properties are still generating enough income to pay debt service.

Banks have generally been keeping a lid on commercial real-estate losses by extending these mortgages upon maturity. However, that practice, billed by many industry observers as "extending and pretending," has come under criticism by some analysts and investors as it promises to put off the pains into the future.

Now federal regulators are essentially sanctioning the practice as long as banks restructure loans prudently. The federal guidelines note that banks that conduct "prudent" loan workouts after looking at the borrower's financial condition "will not be subject to criticism (by regulators) for engaging in these efforts." In addition, loans to creditworthy borrowers that have been restructured and are current won't be reclassified as "high risk" by regulators solely because the collateral backing them has declined to an amount less than the loan balance, the new guidelines state.

Critics say the new rules are yet another example of a head-in-the-sand approach by regulators, pointing to the relaxed accounting standards last year that enabled banks to avoid marking the value of the loans down. This is doing long-term damage to the economy, they say, because it ties up bank capital, preventing them from resuming lending.

Banks are moving quickly to restructure commercial mortgages under new U.S. guidelines that are more forgiving of battered property values and can help banks avoid bigger losses.

Citigroup Inc., regional bank Whitney Holding Corp. and other lenders around the country are planning to review loans now considered nonperforming to determine if they can be reclassified under the guidelines announced Oct. 30 by bank, thrift and credit-union regulators, according to bank executives and people familiar with the matter. The moves could help the banks absorb fewer losses on troubled real-estate loans and preserve capital.

"It's a positive all the way around," said James Smith, chief credit officer for National Bank of South Carolina, a unit of Synovus Financial Corp.

Matthew Anderson, partner at research firm Foresight Analytics, estimates that about two-thirds of the $800 billion in commercial real-estate loans held by banks that will mature between now and 2014 are underwater, meaning the loan amount exceeds the value of the property. The flexibility extended by regulators will apply to $110 billion to $130 billion of loans, he said.

The guidelines are controversial, with critics accusing the U.S. government of prolonging the financial crisis by not forcing borrowers and lenders to confront inevitable problems.

Regulators respond that they are being prudent, adding that a crackdown will occur at any banks misinterpreting last month's announcement as an opportunity for leniency.

"We will push banks to be realistic [about losses] and will drag them out of denial if that's what we need to do," Tim Long, senior deputy comptroller at the Office of the Comptroller of the Currency, said in an interview Tuesday.

Regional and small banks are the most likely financial institutions to benefit from the guidelines because of their exposure to commercial real estate. More than 2,600 banks and thrifts have commercial real-estate-loan portfolios that exceed 300% of total risk-based capital, according to an analysis of regulatory filings by The Wall Street Journal. Nearly all of those institutions have less than $5 billion in assets.

Regulators consider the 300% threshold a red flag, though it doesn't necessarily mean the banks are in danger of failing. Risk-based capital is a cushion that banks use to cover losses. Commercial real-estate woes contributed to 100 of the 120 bank failures this year, according to Foresight Analytics.

2,600 banks and thrifts have commercial real-estate-loan portfolios that exceed 300% of total risk-based capital and regulators ignored it every step of the way. Now that loan losses are soaring, regulators came up with new rules so that banks can pretend the losses are not real.

These kind of reporting games do not really help anyone. All the pretending does is prolong the agony. Banks know the true score even if investors don't. Thus, such measures to free up capital for banks to lend will not work here anymore than the same shell games encouraged lending in Japan.

The fact that regulators are resorting to such shell games is just further proof as to how weak the financial system is. This is an effort by Bair to stem the tide of bank takeovers.

However, the time to do that was before (not after) 2,600 banks accumulated commercial real-estate-loan portfolios exceeding 300% of total risk-based capital.

Lies "A Positive"

"It's a positive all the way around," said James Smith, chief credit officer for National Bank of South Carolina, a unit of Synovus Financial Corp.

Spoken like a bank on life support, trading at $2, with with lots of problems. My suspicions took less than 30 seconds to confirm.

More than 150 publicly traded U.S. lenders own nonperforming loans that equal 5 percent or more of their holdings, a level that former regulators say can wipe out a bank’s equity and threaten its survival.

The number of banks exceeding the threshold more than doubled in the year through June, according to data compiled by Bloomberg, as real estate and credit-card defaults surged. Almost 300 reported 3 percent or more of their loans were nonperforming, a term for commercial and consumer debt that has stopped collecting interest or will no longer be paid in full.

The biggest banks with nonperforming loans of at least 5 percent include Wisconsin’s Marshall & Ilsley Corp. and Georgia’s Synovus Financial Corp., according to Bloomberg data. Among those exceeding 10 percent, the biggest in the 50 U.S. states was Michigan’s Flagstar Bancorp. All said in second- quarter filings they’re “well-capitalized” by regulatory standards, which means they’re considered financially sound.

“At a 3 percent level, I’d be concerned that there’s some underlying issue, and if they’re at 5 percent, chances are regulators have them classified as being in unsafe and unsound condition,” said Walter Mix, former commissioner of the California Department of Financial Institutions, and now a managing director of consulting firm LECG in Los Angeles. He wasn’t commenting on any specific banks.

Synovus, plagued by defaulting construction loans in the Atlanta area, said nonperforming loans rose to 5.4 percent in the second quarter from 5.2 percent the previous period. Disposals of nonperforming assets reached $404 million in the quarter ended in June, the Columbus, Georgia-based company said.

Synovus is selling troubled loans and will continue its “aggressive stance on disposing of nonperforming assets” as long as the level is elevated, spokesman Greg Hudgison said in an e-mailed statement.

Thanks to "new rules" that extend and pretend, Synovus will no longer have to be so aggressive in disposing assets. It can pretend it is "well capitalized" for a while longer while regulators wink and nod and give the thumbs up sign that everything is just fine, while cancerous loans eat at Snovus' insides.

Note how the Fed and FDIC always seek to buy time, even when buying time does nothing but make the problems worse.

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